Trade in services is blighted by restrictive policy and is consequently one of the central issues in the Doha trade negotiations. Yet this column argues that even the best offers put forward are twice as restrictive as current policy and will generate no additional market openings. This column provides two proposals that aim to enhance the prospects of correcting this.

Trade in services has a mountain to climb. In both high-income and developing countries, the barriers to trade and restrictions on investment in the services sector are far higher than for the goods sector. In emerging markets the discrepancy is even more severe (see Figure 1 and Borchert et al. 2010). The costs of such policies are big and wide.

The productivity and competitiveness of firms depends on access to low-cost and high-quality producer services such as telecommunications, transport, finance, and distribution. An expanding body of research – surveyed in Francois and Hoekman (2010) – has documented the positive association between open service markets, foreign direct investment in services and the performance of downstream domestic firms, including on exports.

Services are on the table in the current WTO Doha round negotiations but little progress has been made to enhance the contestability of services markets. The best offers are on average still twice as restrictive as actual policy. With over 75% of GDP in services, any Doha deal must include a substantial package on services to attract the support needed in the polities of major countries.

Services have assumed added significance from a broader global policy perspective in the aftermath of the 2008 financial crisis. There are strong political and economic imperatives that require adjustment in countries with major current account surpluses and deficits, and in both cases service sector reforms are part of the solution (Claessens et al. 2010).

Why the limited traction?

Governments have been reluctant to commit multilaterally for three reasons:

It will deprive them of the freedom to regulate (e.g. cross-border flows of financial and data services and activities such as cross-border gambling services);

Their regulators (especially in the smaller developing countries and especially in financial services) are unprepared for unrestricted entry and competition; and

There are inadequate mechanisms for the international regulatory cooperation (between financial regulators, competition authorities, and immigration authorities) that would be needed to reap the full benefits of liberalisation.

Figure 1. Services trade restrictiveness indices

Source: Borchert et al. (2010).

WTO-based services liberalisation faces three more “headwinds”:

Business interest has been limited because industrial country services markets are mostly open, except a few hardened pockets of protection (e.g. in transport and labour mobility), and developing countries are unilaterally liberalising their markets.

Growing mutual interdependence – with developing countries increasingly suppliers of outsourced services to OECD nations that are the source of investment and know-how in sectors such as transport, telecom, and finance – is creating a self-enforcing equilibrium of openness with a reduced likelihood of policy reversal.

Past experience with services negotiations has created a sense of pessimism in the business community about whether they can deliver greater openness or even greater security of access in a way that is meaningful to their operations – in part because regulatory policies are not the focus of attention.

Two proposals to move forward services reform and liberalisation

In Hoekman and Mattoo (2010) we develop two proposals that we believe could significantly enhance the prospects of negotiating meaningful commitments on services trade and improving regulatory policies affecting services markets.

The focus in services trade negotiations is on market access, not domestic regulation. Governments are free to regulate as long as this does not discriminate against foreign suppliers. Although it makes sense to limit trade agreements to the removal of discriminatory policies, the “benign neglect” of domestic regulation implies that there are no assurances that liberalisation will increase national welfare.

The WTO does nothing to help governments determine whether they have adequate national regulation in place and whether there is a downside risk associated with liberalisation. In general, improved prudential and pro-competitive regulation will be necessary to deliver the full benefits of liberalisation in sectors such as financial services; basic telecommunications and other network-based services.

Feketekuty (2010) has recently suggested that the negotiating process needs to be complemented by other approaches. Our first proposal is to create mechanisms to address the regulatory dimensions of enhancing the performance of services industries. There are two elements to this, one domestic (country-specific) and one international.

The first is the need in many developing countries to strengthen regulatory institutions and identify, design and implement policies that address market failures and ensure wider access to services.

“Services knowledge platforms” that bring together sectoral regulators, trade officials and stakeholders to assess current policies and identify beneficial reforms could help establish the preconditions for future liberalisation commitments. Participation in such mechanisms would be voluntary and not be linked to negotiations in the WTO.

Implementation of priority reforms could be assisted by the development community under the “aid for trade” initiative.

The second dimension is international cooperation to address regulatory externalities.

There are many such externalities: prudential regulation problems arising from differences in regulatory standards, dangers that liberalisation gain will be appropriated by international oligopolies (e.g. transport and information services), and cooperation between host and source countries as concerns temporary labour mobility.

Both dimensions of regulatory cooperation are needed to enable progress to be made on services trade liberalisation, whether in the current Doha round, in future WTO talks or through unilateral reforms.

Our premise is that all countries would participate more meaningfully in negotiations if they had greater certainty regarding the payoffs from making binding policy commitments and assurance that the regulatory preconditions for benefiting from such commitments were in place.

Proposal 2: A bolder approach to liberalise services trade in the Doha negotiations

Significant movement to liberalise services trade will not be possible for many countries in the near term given the great diversity in regulation and regulatory capacity. The required process of learning, policy and regulatory reform, and strengthening of capacity will take many years.

It thus follows that any Doha package should include an acceptance that liberalisation of services markets is a long-term endeavour; one that is conditional on an appropriate regulatory and competition framework being in place.

But greater ambition will be needed on the market access dimension of services negotiations if the outcome of Doha is to garner political support in national parliaments. A package negotiated among a subset (“critical mass”) of the 25 or so major players on services – which together account for over 90% of global output and trade – could span three elements:

Standstill: A pledge not to impose any new restrictions, especially on cross border trade and investment, by inscribing binding language to this effect in the schedules of specific commitments in the General Agreement on Trade in Services.

Pre-commitments: Inscribed again in each country’s specific commitments – to implement reforms by a certain date (to be negotiated) in the future to liberalise trade in services, especially on foreign direct investment and in the air and maritime transport sector (currently often excluded from WTO commitments); and

Temporary movement of suppliers: Agreement to expand the scope for temporary movement of services suppliers, conditional on a set of source country obligations and transparent criteria relating to host country economic conditions.

The first element would send a signal that there is a willingness to use the WTO to substantially reduce uncertainty for service suppliers and users by locking-in current policies. The second and third would demonstrate that the major players are also ready to open service markets gradually, subject to a defined timetable to allow appropriate regulatory reforms to be implemented, including by source countries to meet the conditions required to supply services in importing economies.

Conclusion

Negotiating the liberalisation of services is complicated. Adequate national regulation and international regulatory cooperation will often be necessary. A concerted effort is needed to help countries strengthen and improve service sector regulation and implementing institutions, as well as to cooperate with each other where there are significant regulatory externalities.

Much of what remains to be done to remove developing nation barriers to trade in services will be conditional on such regulatory improvements. An important element of any Doha package on services should therefore be agreement to create mechanisms to promote pro-competitive domestic regulatory reform and thus support liberalisation in the future.

Although comprehensive liberalisation of service markets in all 153 members in the Doha round is neither possible nor at this point in time desirable, the largest services economies (a “G25”) can and should go further.

But the larger players may also need to pursue domestic regulatory reforms before opening up some services sectors to foreign competition, and will need to strengthen regulatory cooperation to facilitate trade in some services.A pre-commitment approach will allow such conditions to be put in place and ensure that there is an agreed timetable to open markets to greater competition. Explicitly recognising that services liberalisation cannot – and should not be – divorced from services regulation will do much to help harness the potential that trade agreements have to expand services trade and investment.

References

Borchert, I., B Gootiiz and A Mattoo (2010). “Restrictions on Services Trade and FDI in Developing Countries”, World Bank, mimeo.